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Jobless Rate: When Up, Down and Steady Are Bad

The August jobs report was distressing for a number of reasons, and one of them was that a fall in the unemployment rate (to 8.1% from 8.3%) was actually a negative thing. This might cause one to wonder, if it's bad for the rate to go up, and it's bad for the rate to go down, and it's arguably bad for the rate to stay the same -- because that would mean there's no improvement -- what could the rate possibly do that would be good?

A drop in the jobless rate in this case was negative because it represented the exit of hundreds of thousands of Americans from the workforce. The civilian labor force declined and the labor force participation rate hit a generational low of 63.5%. By another measure, "the employment-population ratio has basically been unchanged, which tells you the share of working population employed hasn't increased, even if the unemployment rate has declined," says Michael Feroli, chief U.S. economist at JPMorgan. That ratio indicates that, when population growth is taken into account, nearly no progress has been made since the downturn.

And as our Breakout's Jeff Macke noted in last Friday's piece, "For each one-tenth of one percent improvement in the unemployment rate, 184,000 Americans had to become quitters."

And as Bill Stone, chief investment strategist at PNC Asset Management Group, says, "Workers dropping out of the labor force is certainly not the reason you would like [the rate to go down]."

But what would it take for a change in the unemployment rate to be a good thing? An increase to participation and an improvement to employment-population ratio, and a simultaneous drop in unemployment, says Feroli. Basically, more people looking for work and job creation to outpace and offset that, resulting in a decline in the rate.

"Adding jobs faster than the labor force expands would be the optimal state," says Stone.

Of course, the unpleasant employment report may have left the market feeling more encouraged in so far as hopes the Fed might act, says Paul Nolte, managing director of Dearborn Partners. But that's obviously a very short-term view.

"Ultimately, lower unemployment and better jobs growth will be better for the equity markets; it results in better sales, a pickup in manufacturing and better earnings," Nolte says. "A good report a couple months running would be an indication the economy is starting to stand on its own, and doesn't need the Fed."

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